88949 JUNE 2014 • Number 150 The Commodity Super Cycle: Is This Time Different? Otaviano Canuto Some analysts believe that the commodity price boom of the new millennium has played itself out. However, natural resource–based commodity prices (with the exception of shale gas and its downward pressure on U.S. natural gas prices) have remained high by historical records over the last few years, despite the feeble global economic recovery (Canuto 2014). The commodity price spike that started at the end of the 1990s has not been significantly affected by the global downturn, with average prices similar to 2008 levels (figure 1). Indeed, commodity prices have occasionally shown signs of reviving more quickly than the global economic output level (figure 2). So the question is: Have we entered a phase of descending commodity prices? This note argues that it may be too soon to say that the commodity super-cycle phenomenon is a thing of the past. Can History Shed Some Light Here? points used as reference. The picture gets blurrier in cases where commodities themselves have evolved and are hard to Several authors have recently revisited a long, historic series of compare over time—for example, poultry or soybean pro- commodity prices—including Ocampo and Erten (2013), duction today is very different from what it was several de- Jacks (2013), and Arezki et al. (2013). The focus has been ei- cades ago. ther on the old Prebisch-Singer hypothesis—according to which the “terms of trade” between primary products and manufactured goods tended to fall in the very long run—and/ Figure 1. Commodity Prices or on the frequency and shapes of past price cycles. 200 Since the late 19th century, commodity prices moved agriculture along three long-term general cycles, with a fourth cycle just energy 175 metals recently identified. The first two cycles spanned roughly four decades, and the third one lasted 28 years. All four upward 150 phases were primarily driven by rising global demand, though the main sources of that demand differed for each. This time, 125 China’s rapid economic growth since the beginning of the 100 new millennium is propelling demand, as illustrated by the country’s rising proportion of global natural resource–based 75 commodities use (Canuto 2008a). The direction, either upward or downward, of long- 50 term price trends emerging from these studies varies across Jan 07 Jan 08 Jan 09 Jan 10 Jan 11 Jan 12 Jan 13 Jan 14 different types of commodities and depends on the starting Source: World Bank. 1 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise Figure 2. Resource Prices Rebounding Faster Than Global the strength of forces behind the demand for primary com- Economic Output Since 2009 (indexes) modities relative to the demand for manufactures and the 155 supply of commodities relative to the supply of manufactures 150 (Brahmbhatt and Canuto 2010). When looking ahead to a 145 140 certain point in time, the first step is to approach the nature, 135 intensity, and time length of factors on each side of the equa- 130 tion at that specific moment: one cannot look for any prede- 125 +37% termined historic shape of commodity super cycles. 120 +27% 115 world GDP Whither the Prebisch-Singer Dynamics? 110 MGI Commodity Index 105 When independently raising their very long-term gloomy 100 95 prospects regarding commodity prices, Hans Singer and Raul 90 Prebisch in 1949 emphasized two different sides of the equa- 2007 2009 2011 2013 tion. Singer’s price pessimism was based on strong beliefs re- Source: Dobbs et al. (2013). garding the relatively unfavorable price and income elastici- ties of demand for commodities, whereas Prebisch’s Reports on previous cycles and rising price volatility have pessimism is based on an asymmetry in the appropriation of been more convergent. Those works tend to agree on the local- productivity gains between commodity-dependent and in- ization of at least three commodity super cycles since the dustrialized countries. While eventual productivity gains on 19th century, as well as one beginning at the end of the 1990s. the former’s side were automatically transmitted into lower Typically 20-year boom periods are characterized by strong prices, they were captured in the form of stable prices and ris- demand associated with moments of rapid industrialization ing wages and profit volumes in the latter, given the preva- and urbanization—as in the case of the United States in the lence of cost-plus pricing and labor unionization in industry. 1890s, or China in the 2000s—in which supply takes a long This fit well with Prebisch’s critical views about social and time to match that demand. When this happens, periods of political structures inherited by Latin America from its past much lower commodity prices have followed. as a leading commodity producer, compared to evolution to- Spotting trends or previous cycles is a highly useful exer- ward a welfare state in advanced, industrialized countries cise because it calls attention to the interplay between de- such as the United States and in Europe. From this came his mand and supply over time. However, past trends cannot be belief that Latin America should diversify toward a manufac- used to forecast future paths of specific or general commodity turing industry–based society, like other natural resource– prices at a certain point in time—as illustrated by the non-ho- rich advanced economies such as Canada and Australia. mogeneity of shapes of previous cycles. This is not the time or place for any evaluation of how As shown clearly in figure 3, commodity prices relative to dated or incomplete those “structuralist” views were/are, manufactured goods may move and stay significantly lower or much less of the policy proposals that came to be associated higher for substantial periods regardless of the presence of a with them over time. However, it remains useful to think of long-run trend or drift. Movement or lack thereof hinges on the evolution of commodity prices relative to manufactured goods as reflecting the relative paths of demand elasticities, Figure 3. Commodity Prices in Real Terms (1900–2020) productivity, and supply bottlenecks. 350 Has the Descending Phase of the Super 300 Cycle Begun? non-oil 250 It is worth highlighting two distinctive features of the current 200 commodity super cycle, the peak of which has supposedly been reached. First, the correlation between resource prices 150 over the past 30 years has substantially increased (Dobbs et al. 100 2013). Beyond the strong demand pull on all commodities oil wrought by China’s industrialization-cum-urbanization, 50 there is a higher correlation induced by the technological evo- 0 lution. Natural resource–based products have risen as input and, therefore, as costs to other commodities (for example, 1900 1908 1916 1924 1932 1940 1948 1956 1964 1972 1980 1988 1996 2004 2012 2020 fertilizers in agriculture). Furthermore, substitution (for ex- Source: Brahmbhatt and Canuto (2010). 2 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise ample, sugarcane can turn into either ethanol or sugar) and On the other side of the equation, in turn, the current sources (for example, alternative fuels and forms of power growth soft patch faced by many emerging markets does not generation) have increased, making price shock transmission point to any drastic future reversal of commodity demand. more widespread. Urbanization and poverty reduction have remained steady in Second, volatility has increased and continues to rise in the developing world, and there is no sign of a major macro- comparison to the past (Arezki et al. 2013). This is often as- economic downturn beyond the recent accommodation to sociated with the increased size of commodities as a class of lower growth rates (Canuto 2013a). financial assets, even if supply and demand fundamentals ul- There may be changes in demand intensity for different timately operate as gravity centers (Canuto 2008). There is types of commodities. For instance, China’s changing growth also discussion of the role played by an increasing incidence of pattern (Canuto 2013b) may lead to a less metal-intensive natural phenomena (floods, droughts, variable temperatures) growth, but this is not necessarily the case for foodstuffs. As on agriculture production, as well as the social and political seen in figure 1, trajectories of commodity prices do not nec- factors that accompany oil, metal, and mineral extraction essarily follow similar paths. (conflicts, labor strikes). Nevertheless, these factors are largely Canuto (2008b) argues that: associated with short-term volatility. If one may paraphrase Mark Twain, recent news Beyond short-term supply and price fluctuations, more about the death of the commodity super cycle structural factors seem to be at play behind the persistent and of a ‘commodity bust’ were somewhat exag- volatility: gerated. Supply appears to be progressively less able to Six years later, this still applies. adjust rapidly to changes in demand because new reserves are more challenging and expen- About the Author sive to access. For example, offshore oil requires more sophisticated production techniques. References Available arable land is not connected to mar- kets through infrastructure. Mineral resources Arezki, R., Kaddour Hadri, Prakash Loungani, and Yao Rao. 2013. “Testing the Prebisch-Singer Hypothesis Since 1650: Evidence increasingly need to be developed in regions from Panel Techniques That Allow for Multiple Breaks.” IMF that have high political risks. Such factors not Working Paper 13/180, August. only increase the risk of disruptions to supply Brahmbhatt, M., and O. Canuto. 2010. “Natural Resources and but also make supply even more inelastic. As Development Strategy after the Crisis.” Economic Premise No. supply becomes increasingly unresponsive to 1, World Bank, Washington, DC. demand, even small changes in that demand Canuto, O. 2008a. “China as a Bulwark and a Raging Bull.” Econo- can result in significant changes in prices. Inves- monitor February 4. tors may be deterred by the volatility in resource ———. 2008b. “Three Tiers of Commodity Price Drivers.” Econo- prices and become less inclined to invest in new monitor April 21. supply or resource productivity initiatives. ———. 2013a. “Lost in Transition.” Project Syndicate, December 2. (Dobbs et al. 2013, 1) ———. 2013b. “China, Brazil: Two Tales of a Growth Slowdown.” At the margin, supply-side costs are still pointing upward Capital Finance International. ———. 2014. “Macroeconomics and Stagnation: Keynesian-Schum- almost everywhere in the commodities universe, with the ex- peterian Wars.” Capital Finance International. ception of shale gas. However, the pace of innovation and Dobbs, Richard, Jeremy Oppenheim, Fraser Thompson, Sigurd physical investment is not enough to grant the supply elastic- Mareels, Scott Nyquist, and Sunil Sanghvi. 2013. Resource Revo- ity necessary for the price-descending phase of the super cycle lution: Tracking Global Commodity Markets. McKinsey Global to unfold. And, as promising as the shale-gas revolution may Institute. Jacks, D. S. 2013. “From Boom to Bust: A Typology of Real Com- look to the U.S. economy in the years ahead, it seems a stretch modity Prices in the Long Run.” NBER Working Paper 18874. to expect it—through substitution and correlation—to be a Ocampo, J. A., and B. Erten. 2013. “The Global Implications of fully countervailing factor to rising marginal costs of other Falling Commodity Prices.” Project Syndicate, August. natural resource–based products. The Economic Premise note series is intended to summarize good practices and key policy findings on topics related to economic policy. They are produced by the Poverty Reduction and Economic Management (PREM) Network Vice-Presidency of the World Bank. The views expressed here are those of the authors and do not necessarily reflect those of the World Bank. The notes are available at: www.worldbank.org/economicpremise. 3 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK    www.worldbank.org/economicpremise